The incoming leader of the world’s biggest economy has no experience running a government and appears to have a shaky grasp of geopolitics. He is intent on cosying up to Russia, has pledged to rip up trade deals, is prone to ill-timed Tweets and muses openly about boosting his country’s nuclear arsenal.

The bloc that forms the world’s second-largest economic entity, meanwhile, is going through an existential crisis. One of its cornerstone countries has voted to leave, its longest-serving leader faces a crucial re-election campaign and its banking sector is still teetering.

Then there’s the up-and-down data out of the global economy’s greatest growth engine, a supply war over the world’s most important commodity, interest rates that are on the rise and debt levels that have only grown since the financial crisis.

All told, it is hard to remember going into a year with so many wildcards lining up ahead of investors.

Yet as the curtain lifts on 2017, markets don’t seem all that worried: Since the election of Donald Trump in November, U.S. stocks have surged to all-time highs, and the S&P/TSX Composite index isn’t far off.

But it’s where we go from here that gets interesting.

“2017 offers few certainties and plenty of potential risks,” said Jeff Hussey, global chief investment officer at Russell Investments, one of a number of analysts preaching caution as investors look toward the new year.

If things go as planned, and Trump and the Republican Congress successfully push the U.S. economy over the hump with pro-growth initiatives, such as higher government spending and tax cuts, investors who have rotated into cyclical stocks will continue to be rewarded.

But when markets climb to lofty heights, as they have in recent weeks, the declines often come quickly and are painful.

“We all know markets don’t move in a straight line,” said Hanif Mamdani, head of alternative investments for RBC Global Asset Management. “We may be going from point A to point B over the next two or three years, but there is going to be all sorts of check-backs, whether it’s a tweet that makes people scratch their heads, or perhaps Trump isn’t going to get the traction we thought he would and some of his policies won’t be enacted.”

Tobias Levkovich, a Citigroup equity strategist, says the rally in U.S. stocks that capped 2016 sets the stage for what he calls a “consolidation breather.”

He thinks investors may have borrowed some of 2017’s returns with the post-election equity gains.

“Investors appear overly bullish on industrials and materials due to an infrastructure spending story that may prove to be more hype than reality,” Levkovich said.

He noted that big infrastructure proposals from the incoming Trump administration do not seem to be gaining much traction among legislators in Washington, which could set investors up for disappointment.

And Trump’s spending plans won’t be the only major investing unknown to be decided inside the corridors of power in 2017.

“Equity markets will continue to be driven by policy/political events, which increases uncertainty of any predictions,” said Gurvinder Brar, a quantitative analyst at Macquarie Capital.

Brar highlighted risks associated not just with the U.S. and its rising dollar, but also with upcoming elections in Europe and Brexit uncertainty as having the potential to hinder economic activity and increase market turbulence.

Europe, which like Japan is stuck in a negative interest rate environment that has no end in sight, may in fact pose the greater challenge for investors in 2017.

Market participants have no idea whether the Brexit will be hard, soft or somewhere in between, while the Italian banking sector continues to face weak capitalization and asset quality.

Populist political parties everywhere from Spain to Poland are gaining momentum, just one way Trump’s victory has added fuel to the European fire.

David Rosenberg, chief economist and strategist at Gluskin Sheff + Associates has highlighted another factor that investors should keep in mind for 2017.

With a German election slated for Oct. 22 at the latest, Chancellor Angela Merkel’s support will face its most significant test yet. Polls show her popularity has plunged since the attack that killed 12 people at a Christmas market in Berlin in December.

Rosenberg noted that Merkel is widely viewed as the glue that has kept the euro experiment and European integration intact.

“That, along with French elections and a likely move towards outright Brexit by March, (means) we are likely to see recurring rounds of European-led volatility in 2017,” he said.

All this political risk comes against the backdrop of a global financial system that still has not recovered from the financial crisis.

Hendrix Vachon, senior economist at Desjardins Group, notes that while some countries have made meaningful progress in deleveraging, debt is still a major problem on a global scale, and threatens future economic growth.

“This risk is even higher now that the recent uptrend in interest rates could put pressure on borrowers,” Vachon said.

The economist pointed to data from the Bank of International Settlements showing the total debt of households, governments and non-financial businesses exceeded GDP by 215 per cent globally in early 2008. Now that figure is moving closer to 250 per cent of GDP.

Advanced economies are in the worst shape, but emerging markets are seeing debt trend higher, too. China’s total debt is 255 per cent of GDP, putting it well above other major emerging countries.

Surging outflows and a plunging currency are only some of the issues Chinese policymakers are forced to cope with, and further intervention from the state will make it more difficult for investors to get a handle on the country’s growth path.

“At the beginning of 2016, the most eye-catching topic was whether China’s hard landing had already happened. At the end of 2016, the Chinese economy once again defies doomsayers and the major concern has shifted to inflation,” said Larry Hu, analyst at Macquarie Capital. “While all these could be justified by policy and property, the big swing highlights how hard it is to forecast the world’s second largest economy.”

Meanwhile, the debt level of households in Canada, Norway and New Zealand is approaching levels seen in the U.S. before the 2008–2009 crisis.

“In short, the debt problem has not really been tackled in recent years, it has merely been displaced. Improvements in household balance sheets in the U.S. and in other advanced countries have been offset by increasing government debt,” Vachon said, adding that this threatens to destabilize the global economy and financial markets, particularly if interest rates continue to rise.

For Canada, the domestic economy and equity market continues to rely in large part on commodities — oil in particular.

That brings up the last big wildcard investors are grappling with: crude prices and OPEC’s commitment to cut production.

Many participants in the energy market considered the cartel’s agreement, which included producers outside of the group such as Russia, a watershed event marking the start of a new phase in the energy cycle.

But the big question that will linger is whether the group of producing nations will be able to enforce the cuts. History suggests it won’t be easy, as compliance has been mixed, at best, in the past, and isn’t clear how those that don’t follow through will be punished.

That could mean more oil price volatility, and the potential for some nasty surprises along the way.

With all those uncertainties lining up, market turbulence may be the only thing investors can count on in 2017.

“There are going to be opportunities or points in time when people will question how far we’ve come, and how quickly, and there will be a sudden reversal,” RBC’s Mamdani said.

Investors would be wise to be ready. That means entering the year with some cash on hand, ready for the next ill-advised tweet or wayward poll.

The words of politicians and central bankers will move stocks in 2017, but fundamentals will rule the day when the dust settles.

For Medicine Hat, three years of low prices and big losses were too much to ignore

Comments

Postmedia is pleased to bring you a new commenting experience. We are committed to maintaining a lively but civil forum for discussion and encourage all readers to share their views on our articles. We ask you to keep your comments relevant and respectful. Visit our community guidelines for more information.